Where Do We Go From Here?Rules of the GameConstructive EngagementCollective Action ClausesOfficially Sanctioned Standstills

Conclusion

I. Introduction

In recent years one of the most spectacular manifestations of globalization has been the rapid expansion of international private capital flows--investments and loans from one country to another. These flows have brought significant economic benefits, but they have also exposed countries to periodic crises of confidence when inflows of capital are suddenly reversed.

These crises can impose substantial economic and social costs. So the international financial institutions--and their member governments--face a twofold challenge: to prevent crises where possible, and to help resolve them where necessary. "Constructive engagement" among borrowers, creditors, and the international financial institutions during normal times can make an important contribution to both these objectives. Opening and maintaining channels of communication and cooperation between these players needs to take place both at the level of individual countries and across the international financial system as a whole.

The International Monetary Fund is encouraging countries to do what they can to make themselves less vulnerable to crises, for example by keeping government borrowing under control, guarding against inflation, avoiding unsustainable exchange rate arrangements, managing debts responsibly, and strengthening domestic financial systems.

To achieve this, the Fund is stepping up its regular scrutiny of member countries' policies, carrying out assessments of national financial systems in cooperation with the World Bank, and also offering precautionary credit lines to countries that undertake crisis prevention measures but which nonetheless still feel vulnerable. Together with other official bodies, the Fund is also encouraging countries to adhere to international standards and codes of good practices in a wide variety of policy areas.

But crises will still occur. And when they do, official institutions will not have the resources to bear the full burden of covering a country's financing needs. Neither would it be desirable for them to do so. It is therefore important to encourage the involvement of private sector creditors in the resolution of crises, by reaching cooperative solutions to payment problems. If efforts to reach agreement on a voluntary approach are not successful, creditors may have to accept some constraint on their immediate demands for repayment and shoulder some losses.

The international community has sought the involvement of private sector creditors in resolving financial crises in a number of countries in recent years. The precise mechanics have evolved on a case-by-case basis, depending in particular on the nature of the crisis and the characteristics of the creditors. Important questions now arise: Is it possible to clarify the "rules of the game" for private sector involvement? And how can we make the process of involving the private sector in crisis resolution less painful and more efficient? Answering these questions is proving to be one of the most difficult challenges facing the world community in reforming the architecture of the international financial system.

II. The Evolution of International Capital Flows

Flows of private financial capital across national borders have long been an important driving force behind world economic growth. The ability to move capital from one country to another allows borrowers to finance profitable investments without having to rely on sometimes scarce domestic savings. At the same time, it offers investors and lenders the possibility of securing higher returns on their money than they could earn at home. Viewed globally, cross-border capital flows promote economic efficiency and growth by allowing finance to flow to the most profitable and productive uses possible.

Cross-border capital flows were already flourishing in the decades preceding World War I. Investors in London or Paris financed everything from American and Australian railroads to Peruvian guano. Capital flows resumed after the war ended, only to be choked off again in the 1930s by the Great Depression, an accompanying tightening of restrictions on trade and capital flows, and--ultimately--the outbreak of World War II.

When plans were laid for the creation of the IMF and World Bank during the war years, the architects of the new institutions feared that the international market for private capital had disappeared for good. But cross-border flows to the industrialized countries did in fact revive in the 1950s and 1960s and went on to increase exponentially thereafter, spreading in addition to what we now call the emerging market economies. In the early and mid-1980s, capital flows into emerging market economies were depressed for a long period as a number of the heaviest borrowers--notably in Latin America--had difficulty servicing their debts.

Latin America suffered a "lost decade" of economic growth as a result and the crisis also threatened to bring down commercial banks in industrial countries, especially in the U.S. The international community put considerable effort into resolving the debt crisis. It succeeded and the rapid acceleration of capital flows resumed at the end of the decade. By 1997 gross private capital flows into emerging market countries had risen to a peak of around $290 billion.

As international capital flows increased relative to the size of national economies, so too did the disruption threatened by their reversal. The need to maintain investor confidence can serve as a useful discipline, magnifying the rewards for good policies and the penalties for bad ones. But in recent years flows have become much more volatile than changes in the economic prospects of individual countries could explain or reasonably justify.

Economies have thus become increasingly vulnerable to crises of confidence, akin to runs on banks. Investors on occasion overreact to economic developments, responding late and excessively. The impact of these decisions can be magnified enormously as nervous investors copy the actions of others. As Charles MacKay famously observed in Extraordinary Popular Delusions and The Madness of Crowds: "Men, it has been well said, think in herds: it will be seen that they go mad in herds, while they only recover their senses slowly, and one by one."

As the economies of south-east Asia discovered to their cost in 1997 and 1998, the sudden reversal of huge capital inflows--and the shortage of foreign currency that this implies--can inflict enormous economic pain. It can cause a big drop in the value of a country's currency on the foreign exchanges, which in turn leads to a rise in the price of its imports and the cost of servicing debts denominated in foreign currencies. At the same time, it may necessitate a very large improvement in the current account of the balance of payments to provide the foreign currency needed to finance the outflow of capital. This in turn demands a sharp contraction of economic activity to cut the import bill, eased only gradually by the boost to the country's competitiveness which arises from the fall in its exchange rate. In Thailand, for example, the move from deficit to surplus on the current account amounted to $29 billion or 20 percent of annual national output between 1996 and 1998. This was associated with a 45 percent fall in the Thai baht during 1997 and a 10 percent decline in national income during 1998.

III. Why Involve the Private Sector in Crisis Resolution?

Limited Official Resources

The IMF was created in 1944 partly to help countries weather balance of payments problems by offering temporary financial assistance. The aim was to stop them feeling the need to resort to policies with unnecessarily damaging consequences for themselves and other countries, such as excessive devaluations or the imposition of trade barriers. But now that balance of payments problems sometimes take the form of large and sudden capital outflows, much larger sums can be required to help countries ride them out. This is one reason why the private sector's role in resolving crises is now under the spotlight.

When capital flows were restricted in the years following World War II, the amount of foreign money that a country would need to attract to maintain a reasonable level of economic activity was essentially equal to its current account deficit, namely the money it needed to buy imports minus its foreign currency earnings from exports sold overseas. (Hence the traditional view that the adequacy of a country's foreign exchange reserves can be measured by the number of months of imports they would pay for.) For emerging market economies, current account deficits were rarely more than 5 percent of national income.

But now that flows of capital dwarf the sums needed simply to pay for trade, a country facing a crisis of confidence could in extremis find that it needs enough foreign currency to pay off all its external creditors at once. This is typically a much larger amount than the current account deficit--more than 30 percent of national income on average for emerging market nations. The need for capital could be greater still if domestic investors also try to get their money out, which was the case during the recent crises in Indonesia, Russia, and Brazil.

As the potential need for balance of payments support has increased, the amount the IMF has available to lend has risen too--but nowhere near as fast. The Fund is a credit union, with members contributing in proportion to their importance in the world economy. A country that finds itself in trouble is then entitled to borrow a multiple of the "quota" it paid in, subject to agreement on economic adjustment and reform measures to tackle the root of its balance of payments problem.

The Fund has substantial credit lines in place with a number of leading industrial and emerging market economies, in the form of the so-called General Arrangements to Borrow and New Arrangements to Borrow. But the vast bulk of the money it has available to lend comes from the quotas paid in by members with strong balance of payments positions. Since 1970, total quotas have increased by 170 percent percent in dollar terms, adjusted for inflation. But over the same period, on some measures the emerging market economies have grown by 250 percent, world trade by 440 percent and private sector capital flows by almost 850 percent. The IMF currently has around $200 billion available to lend. But this is still less than a tenth of the total external debts of low- and middle-income countries at the end of 1997.

In facing this resource constraint, the IMF has less room for maneuver than a national central bank confronted with an analogous crisis of confidence in its banking system. A national central bank can provide an absolute guarantee that depositors will be repaid, because it can print unlimited quantities of domestic currency to inject into the banking system. (Unless it is operating under a currency board arrangement or has adopted the currency of another nation through "dollarization".) The Fund's inability to act as a textbook "lender of last resort" in this way is one reason why countries may on occasion find themselves having to work intensively with their creditors to maintain their access to finance--and why it may ultimately be necessary in extreme circumstances to limit the ability of creditors to demand repayment from a country that finds itself in severe trouble. This is what is meant by "involving the private sector" in crisis resolution.

Moral Hazard

Even if the Fund did have unlimited resources, it would not necessarily be desirable--or politically acceptable--to provide all the foreign currency that a country needs in the event of an investor panic. The reason is "moral hazard"--the danger that countries will be encouraged to pursue lax policies and that investors will be encouraged to lend recklessly if they believe that the international community will step in and ensure they are repaid if things go wrong. Critics of the IMF's rescue package for Mexico in 1995 argue that by ensuring that investors in the Mexican government's dollar-denominated bonds were repaid, the Fund and other international institutions encouraged imprudent investments in south-east Asia.

But the evidence does not bear this out. Investment in Asia did not flow into the sorts of assets that were likely to benefit from an IMF rescue. Holders of government debt were the principal beneficiaries of the Mexican bail-out, yet holdings of Asian government debt increased only modestly. Similarly, one might have expected greater lending to Asian banks on the assumption that they were likely to enjoy protection in the event of a crisis. But again this was not the case. This is not to say that moral hazard is unimportant, however. Investors were clearly encouraged to put money into Russia in part because of a misplaced belief that it was "too large" or "too nuclear" to be allowed to fail. If moral hazard goes unchecked, crises are likely to be more frequent and more severe than they otherwise would be.

IV. Recent Experience with Private Sector Involvement

The Collective Action Problem

In most cases, the IMF can help countries overcome balance of payments problems without putting pressure on their private creditors to act against their will. Modest financial assistance and agreement on a convincing economic adjustment and reform program are normally sufficient to rebuild confidence among private investors and lenders, and thereby restore a country's access to foreign private capital. Programs agreed recently with Mexico, Bulgaria and the Balticsare good examples of this "catalytic" role. In these cases the private sector contributes to the resolution of the crisis voluntarily, simply by pursuing its own interests.

But what if a country faces a large short-term need for foreign currency (beyond that which the IMF and other official lenders are willing to provide), and has little chance of securing it quickly enough from the private sector? It may then be necessary to require private creditors to limit their demands for repayment. But identifying when this will be necessary is far from straightforward. In Brazil and Korea, for example, economic policy programs supported by the IMF initially failed to restore creditor confidence. The banks that had lent to them were not reassured and continued to call in their loans. Industrial country central banks and supervisors later persuaded them to exercise restraint and roll them over.

Private creditors will also have to limit their demands for repayment if a country faces a genuinely unsustainable debt burden--a solvency crisis, rather than a short-term liquidity problem. In these cases the eventual restructuring of the country's debt obligations will be unavoidable.

As in domestic bankruptcy cases, creditors often find it in their collective interest to contribute to the resolution of a financial crisis by exercising restraint in demands for debt repayment. The reason the official sector may need to get involved--to encourage or demand that restraint--is to overcome the so-called "collective action problem," namely that each individual creditor has an incentive to get out early or to try to block a proposed debt restructuring, thereby gaining at the expense of the other creditors. Some private institutions--known as "vulture funds"--specialize in precisely this sort of blocking tactic. The collective action problem can be exacerbated because any individual creditor is likely to have very imperfect information about the true actions and intentions of its fellow creditors.

The collective action problem was nicely illustrated in the 1998 movie Waking Ned Devine, as Steven Schwarcz of Duke Law School has pointed out. In the movie, a man with no heirs wins £6.7 million in the Irish national lottery and promptly dies of shock. The remaining 52 residents in his village decide that one of them should pretend to be Ned, claim the prize money and share out £130,000 to each of them. To get the money, everyone else simply has to vouch for the fake Ned to the lottery inspectors. Unfortunately for them, one villager holds out for a much larger share, threatening to expose the fraud if her demand is not met.

Another dimension of the collective action problem is the incentive for creditors to act as "free riders." A restructuring agreement will improve a country's ability to service that part of its debt which remains under the original terms. Creditors therefore have an incentive to opt out of an agreement and simply take advantage of their improved repayment prospects.

So how in practice have potentially maverick creditors been restrained or persuaded to exercise restraint? The approach taken has differed from case to case, reflecting a variety of factors. Crucially, these include the type of debt involved and the nature of the creditors.

Bank Debt

In cases where the debt takes the form of bank loans, the process of securing a concerted contribution from creditors is typically eased by the fact that they are relatively small in number. For example, in early 1999 it proved relatively easy to get banks to agree to keep credit lines open to borrowers in Brazil, after the announcement of an IMF program initially failed to halt capital outflows. The lenders were keen to cooperate so as not to jeopardize long-term business relationships in the country. But this may not be true elsewhere.

A more heavy-handed approach proved necessary in Korea in late 1997. The country's official reserves were almost exhausted after being made available to repay the overseas loans of Korean banks. This raised the specter of imminent default. In response the authorities of the Group of 10 leading industrial countries put moral pressure on their commercial banks to roll over their claims on Korean banks rather than demand their repayment. It worked, but the G-10 was only prepared to consider such an approach because of the potentially serious knock-on effect that a Korean default would have had on the stability of the world financial system. It is open to question whether such an exercise would be repeated for a less systemically significant nation. It might also be dangerous to make regular use of this technique as banks forced to keep credit lines open to one country might rebalance their loan portfolios by calling in debts elsewhere. The fear alone of impending moral suasion might also encourage them to call in loans.

Sovereign Bonds

The most visible trend in international capital flows over recent years--aside from the rapid rate of overall increase--has been a shift from bank lending towards bond issues. Since 1980 gross bond issuance by emerging market countries has grown at an average of 25 percent a year on one measure, four times the rate for syndicated bank loans. This means that private creditors have become increasingly numerous, anonymous and difficult to coordinate. They are also less likely to have long-term commercial links with the countries to which they lend. Having said that, recent experience with restructuring bond debt has been less difficult than many expected.

In the wake of the Russian default in 1998, and despite having reached agreement on a program with the IMF, Ukraine found itself unable to raise money from private investors while facing a highly bunched profile of debt repayments. Various obligations due in 1998 and 1999 were rescheduled in piecemeal fashion before agreement was finally reached in early 2000 on a comprehensive restructuring of government bonds. Three of the bonds that Ukraine restructured were narrowly held, which made it relatively easy to establish a collaborative dialogue with the bondholders. One investor proposed litigation to demand full repayment, but the others felt that the offer to exchange their bonds was attractive enough to accept. In the event, the exchange was completed successfully and without litigation.

Pakistan too reached agreement on a comprehensive restructuring of its external debts in early 2000. This followed an acute liquidity crisis in late 1998 when a build-up of short-term debt coincided with a fall in flows of official money from abroad because of its nuclear tests. The debts restructured included deposits held by Pakistani financial institutions, bonds issued by the Pakistani authorities, and bank loans to the government and state-owned enterprises. Pakistan's bonds were largely held by financial institutions and Middle Eastern individuals. The authorities were able to contact holders of 40 percent of their value and come up with an acceptable exchange offer.

In both Ukraine and Pakistan, predictions that the restructuring of bond debt would be frustrated by disruptive litigation proved unduly pessimistic. This may reflect several factors: extensive informal contacts between the debtors and their creditors; a credible threat of default if agreement was not reached; a clear understanding that the countries faced severe balance of payments problems and shortages of reserves; and reassurance that the IMF was insisting on substantive policy reforms. At the margin, clauses in many of the relevant bond contracts constraining the scope of dissident creditors to hold up an agreement may also have helped avoid litigation. These were activated in Ukraine, but not in Pakistan.

When Ecuador ran into trouble in 1999, prospects for a successful restructuring looked much less promising. In September that year it became the first country to default on its Brady bonds, which were themselves created to restructure defaulted bank loans from the 1980s. Attempts to normalize Ecuador's relationship with its creditors were long stymied by domestic political turmoil. But in May 2000 the authorities announced their intention to restructure all $6.65 billion of their existing Brady and other international bonds, insisting that there would be no side deals with particular groups of creditors. The offer to exchange them for new 30- and 12-year bonds was launched on July 27, with an 85 percent take-up required for it to be effective. The announcement prompted a rise in the price of Ecuador's debt on the secondary market, signaling that the market thought it a relatively good deal. In the end, 98 percent of bondholders agreed to take up the offer. In this case litigation may have been avoided in part because of the innovative use of "exit consents." These allow a simple majority of bondholders to alter those terms of the original bond that are not directly related to repayment. As a result, it becomes less attractive for dissident creditors to hold on to them.

This does not necessarily mean that the threat of disruptive litigation is no longer a problem. Peru recently had to settle with a vulture company, Elliott Associates, because the company had managed in June 2000 to obtain an order in a Brussels court that would have stopped Peru paying interest on its Brady bonds and thereby pushed it into a costly default. The legal basis on which Elliott Associates pursued its case is controversial, but its success in getting Peru to settle could encourage other bondholders to hold out in future restructurings.

V. Where Do We Go From Here?

Rules of the Game

Private creditors have often claimed in the past that official efforts to involve them in crisis resolution would do more harm than good. As the Emerging Market Traders Association argued in September 1999: "While burden-sharing by the private sector is acceptable in principle, forced rescheduling of bonds will drive investors away from the emerging markets and effectively deprive countries of much-needed access to the bond markets."

In practice this has not happened. Gross flows of private financing into emerging markets have been recovering--albeit unsteadily--since their post-crisis trough at the end of 1998. Many private sector participants now seem to accept the need to encourage or (in extreme cases) demand their involvement. The principal complaint now is that there are no clear "rules of the game" explaining when and how private sector involvement will be required.

This concern is exacerbated by concerns among private creditors that they are being asked to make concessions that they say the so-called "Paris Club" of government creditors is not prepared to match. Some private creditors also believe that the IMF has actively encouraged countries to default and that--contrary to its stated policy--the Fund is prepared to lend to countries that are in arrears to their private creditors even when they fail to negotiate in good faith.

Whether it is practical and desirable to lay out clear rules of the game is an issue the Fund's shareholders have debated. Some have argued that private sector involvement should be required automatically if a country's use of IMF resources reaches a predetermined level--say 300 percent of its quota. Advocates of clear rules argue that they would give investors and lenders a greater incentive and ability to manage risk sensibly.

Others have argued that rules would limit the flexibility with which the official community could respond to future crises. Countries in crisis differ widely and a simple and judgment-free approach is infeasible. Inflexible rules that would require creditors to take losses under specific circumstances may also make private creditors less willing to extend loans or to provide new money voluntarily. An unduly rigid approach could also lead to a disorderly default, limiting the country's access to capital in the longer term and threatening the access of other countries too.

The middle path between these two views is to lay out a framework with predetermined objectives, but then to tailor the actions undertaken to achieve those objectives to the circumstances of each individual case. Under this framework, in cases where agreement on an economic adjustment program and IMF financial support would not in itself be sufficient to restore a country's access to private finance, the country would have to approach its creditors to seek a breathing space until corrective policy measures take hold. In extreme cases, where creditors are unwilling to provide this support voluntarily, it may be necessary to require them to exercise restraint to return the country to a sustainable profile of debt repayments.

Constructive Engagement

There is broad agreement that better communication between debtor countries, private creditors, and international financial institutions could help prevent crises, as well as making them easier to manage and resolve when they cannot be avoided. This "constructive engagement" is needed at two levels: with regard to the international financial system as a whole, and for individual countries.

To promote constructive engagement at a system-wide level, the IMF has established a Capital Markets Consultative Group (CMCG) in which individuals from major private sector financial institutions will meet regularly with IMF management and staff to discuss areas of common interest. The first meeting of the group took place in September 2000. Topics for discussion will include systemically important developments in capital flows and financial markets, as well as the implications of actions undertaken by the IMF or the international community more broadly. But it will not discuss live operational issues relevant to a particular country or countries, nor will it provide the private sector members of the group with privileged access to restrictive information. The dialogue within the group should help to clarify for the private sector participants the approach to private sector involvement being taken by the official sector, even if that approach cannot be codified in formal rules.

There is no universal blueprint for how best to secure constructive engagement at the level of an individual country. But Mexico is often cited as an example of best practice. The Mexican authorities regularly engage in conference calls with their creditors and investors, which they step up when a large international bond issue is in the offing. The authorities also travel frequently to major financial centers to discuss recent developments and prospects. Such an approach can make borrowing cheaper, by reducing the risk premium that investors demand for uncertainty. It may also make investors less likely to overreact to economic developments and succumb to a herd mentality. And in the event that a crisis does break out, it may also make it easier to coordinate a voluntary response from the country's creditors.

But there are various barriers to this approach. These include: a lack of preparedness and public relations expertise on the part of some borrowers; reluctance to reveal sensitive information; the preference of some investors to meet with authorities individually; and the desire of some bondholders to remain anonymous. These factors also help explain why many market participants are unenthusiastic about standing committees of debtors and creditors.

Collective Action Clauses

Constructive engagement between a debtor country and its creditors should make negotiations easier if the country succumbs to a crisis. But it would be naïve to assume that better communication alone will be enough to remove the collective action problem--especially if some bondholders have little interest in maintaining a long-term relationship with the country to which they have lent. One way to make restructuring easier under such circumstances is to include clauses in bond contracts that limit the ability of dissident creditors to obstruct an agreement. These include:

Majority action clauses: which make the terms of a restructuring that is agreed by a given majority of bondholders binding on the minority;

Sharing clauses: which mean that funds secured by one bondholder through litigation have to be shared with other bondholders in proportion to their holdings;

Collective representation clauses: which make majorities easier to assemble by allowing trustees and others to represent bondholders at bondholders' meetings.

Bonds issued under English law typically include such clauses. But only around a quarter of international and Brady bonds issued by emerging market countries are of this type. The majority are subject to New York law, which does not include these renegotiation-friendly features and under which all bondholders must agree to any amendment of payment terms.

The presence of collective action clauses may have helped at the margin to facilitate the recent restructuring of bond debts in Ukraine and Pakistan, although financial market participants are generally not convinced that they make a significant difference to the prospects of achieving a successful debt restructuring. The leading industrial countries have urged emerging market economies to adopt collective action clauses, with the U.K., Germany and Canada leading by example and including them in the bonds they issue themselves. But it is nonetheless understandable that many emerging market countries remain nervous about taking this step, for fear of investors' reaction. At first glance, the unprecedented use of exit consents in Ecuador's restructuring may make collective action clauses appear less necessary, but these consents are nonetheless likely to provide a more predictable mechanism for creditor restraint that should be attractive to investors and the official sector alike.

One argument against collective action clauses is that by making restructuring easier, they will encourage countries to renege on their debts. This in turn may make it more expensive for emerging market countries to raise money through bond issues, by making them appear more risky. The evidence is mixed. It suggests that collective action clauses do not affect the cost of borrowing for countries with good credit ratings, but that they do make it more expensive for countries with poorer ratings. Some argue that this is no bad thing, as it will encourage countries to adopt the sorts of sound policies that will improve their credit ratings.

Collective action clauses can certainly help make bond restructuring easier. But they also leave in place the incentive for bondholders to rush for the exits and get out early--just in case vulture funds or other dissident creditors manage to secure a blocking minority.

Officially Sanctioned Standstills

When a company gets into trouble, its creditors have an incentive to seize assets as quickly as they can. For that reason most national bankruptcy codes have provisions giving companies temporary protection from their creditors, for example Chapter 11 in the U.S. But when a country gets into trouble, there is no international bankruptcy code to offer that protection.

No one expects such a code to be created any time soon, but some have argued that there may still be scope to allow the international community in effect to sanction a temporary standstill in a country's debt repayments where that would be in the public interest. In some sense, the IMF already gives moral support to some standstills by agreeing to lend to countries that are in arrears to their private creditors, as long as they are negotiating with those creditors in good faith to reach a collaborative agreement.

But this moral support does not provide a country with legal protection from its creditors. Some have suggested that this could be done by amending Article VIII.2.b of the IMF's Articles of Agreement--its constitution. This already gives the Fund the power to sanction capital controls (which prohibit certain payments overseas) and exchange controls (which limit the availability for foreign currency to make those payments). The amendment would be necessary to make it clear that the Fund's jurisdiction extended to controls imposed in support of a standstill.

Opinions on this issue among the IMF's shareholders are sharply divided, and the practical obstacles to a change of this sort are considerable. Past experience suggests that there would still be question marks over the meaning and effectiveness of the IMF's legal jurisdiction in this area. There is also the issue of ratification. The amendment would require the support of more than half the Fund's shareholders, wielding at least 85 percent of its total voting power. The change would then need to be enshrined in national contract law, either through legislation or a precedent-setting legal interpretation in national courts. In all likelihood many countries would be very reluctant to constrain the ability of their citizens to enforce the payment of debts owed to them through the courts.

Leaving these obstacles aside, it is not clear precisely what impact the introduction of officially sanctioned standstills would have on the behavior of lenders and investors. The threat of a forced standstill might encourage creditors to cooperate voluntarily, but on the other hand it might encourage them to rush for the exits even earlier than they otherwise would. Imposing a standstill in one country might also encourage creditors to sell assets or call in loans in other countries, thereby exporting instability and balance of payments problems. With respect to the pattern of future capital flows, the use of officially sanctioned standstills could encourage investors to position themselves for a quick exit (by lending over shorter maturities) and to secure loans with a claim on export earnings or other assets. These actions could make crisis resolution harder rather than easier to achieve in the longer term.

VI. Conclusion

Financial crises will never be abolished entirely. But it would be a counsel of despair to argue that they cannot be made less frequent and less severe. Crisis prevention is the first priority. To this end the IMF is stepping up its regular surveillance of national policies and focusing on factors that might make countries vulnerable to crises: poor macroeconomic policies, weak financial systems, inappropriate exchange rate regimes and the like. It is also offering financial incentives for countries to adopt policies that make crises less likely.

But crisis prevention measures are not infallible. So it is important to take steps to make crises easier to manage when they do break out, so that the social and economic costs are minimized. There is now a widespread recognition that involving private creditors in crisis resolution can play an important part in that process. But the international community is still wrestling with a number of key questions. Among the most important: How can the process of private sector involvement be made more efficient and less painful? And can we articulate the "rules of the game" more clearly without sacrificing the benefits of a flexible approach?